ALI RAZA

TABLE OF CONTENT
Page
S No. Topics
No.
Book of Prime Entry and
1 3
Source Document
2 Bank Reconciliation Statement 6
3 Control Accounts 9
4 Correction of Errors 11
5 Accounting concepts 13
Capital & Revenue
6 15
Expenditure
7 Depreciation 17
8 Irrecoverable debts 21
9 Accounting Ratios 23
10 Partnership 31
11 Company Accounts 35
12 Sole Trader 39
13 COSTING 41
14 MARGINAL COSTING 43
15 ABSORTION COSTING 45
COMPUTERISED ACCOUNTING
16 49
SYSTEM

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Assessment overview
Paper 1 Paper 3

Multiple Choice 1 hour Financial Accounting 1 hour 30 minutes

30 marks 75 marks
30 multiple-choice questions Three structured questions
Questions are based on sections 1 and 2 of the Questions are based on section 3 of the subject
subject content. content; knowledge of material from the AS Level
Externally assessed subject content is assumed.
28% of the AS Level Externally assessed
14% of the A Level 30% of the A Level

Paper 2 Paper 4

Fundamentals of Accounting 1 hour 45 minutes Cost and Management Accounting 1 hour

90 marks 50 marks
Four structured questions Two structured questions
Questions are based on sections 1 and 2 of the Questions are based on section 4 of the subject
subject content content; knowledge of material from the AS Level
Externally assessed subject content is assumed.
72% of the AS Level Externally assessed
36% of the A Level 20% of the A Level

Information on availability is in the Before you start section.

There are three routes for Cambridge International AS & A Level Accounting:
Route Paper 1 Paper 2 Paper 3 Paper 4

1 AS Level only
(Candidates take all AS components 9 9
in the same exam series)

2 A Level (staged over two years)  

Year 1 AS Level* 9 9

Year 2 Complete the A Level 9 9

3 A Level
(Candidates take all components in 9 9 9 9
the same exam series)

* Candidates carry forward their AS Level result subject to the rules and time limits described in the Cambridge Handbook.

Candidates following an AS Level route are eligible for grades a–e. Candidates following an A Level route are eligible
for grades A*–E.

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4 Details of the assessment

Calculators
Calculators are essential for all papers.

Ratios
Candidates must use the formulae given in the appendix to section 3 of this syllabus for the accounting ratios.
Where a candidate uses an incorrect formula, this will not be credited, but the resulting figure will be credited as
the candidate’s own figure when used in following calculations.

Ratios are not given in the question paper.

Paper 1 – Multiple Choice

Multiple choice paper, 1 hour, 30 marks

Candidates answer all 30 questions and indicate their answers on the answer sheet provided.

The questions are based on the AS Level subject content only.

Twenty-two questions focus on financial accounting and eight questions focus on cost and management
accounting.

Candidates must use the formulae given in the appendix to section 3 to obtain their answers.

Paper 1 assesses AO1 Knowledge and understanding and AO2 Analysis.

Paper 2 – Fundamentals of Accounting

Written paper, 1 hour 45 minutes, 90 marks

This paper has four structured questions. Candidates answer all questions. Candidates answer on the question
paper.

The questions are based on the AS Level subject content only.

Questions 1, 2 and 3 focus on financial accounting. Question 1 has 30 marks; questions 2 and 3 have 15 marks each.

Question 4 focuses on cost and management accounting and has 30 marks.

Candidates must use the formulae given in the appendix to section 3. These are the only formulae accepted in
candidate responses.

Candidates should use international accounting terminology and formats as appropriate.

Where candidates are asked to make recommendations or decisions they are expected to support their answer with
a balance of reasons, and to justify their recommendation or decision.

Paper 2 assesses AO1 Knowledge and understanding, AO2 Analysis and AO3 Evaluation.

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Book of Prime Entry and Source Document

Books of prime entry:

A book of prime entry is one in which transactions are recorded before being entered in
the ledger.
There are 6 books of prime entry

1) Sales journal
2) Purchase journal
3) Sales return journal
4) purchase return journal
5) Cash book
6) General journal

1) Sales journal:

The sales journal shows a list of the names of businesses to which credit sales have
been made, the value of the goods sold and the date on which the sales were made.

2) Purchase journal:

The Purchase journal shows a list of the names of the businesses from which credit
purchases have been made, the value of the goods purchased and the date on which
the purchases were made.

3) Sales return journal:

The sales return journal shows a list of the names of businesses which have returned
goods previously sold on credit , the value of the goods return and the date on which
the returns were made.

4) Purchase return journal:

The Purchase returns channel shows a list of the names of the businesses to which
goods previously purchased on credit, have been returned , the value of the goods
returned and the date on which the returns were made .

5) Cash book:

Businesses hold cash to make payments for the goods and services they buy and some
cash business keep on their premises which are called cash in hand. However most
businesses keep up much larger Reserve of cash in a bank account which is called
cash in bank. Every transaction of a business involving the exchange of cash should be
recorded in its cash book

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6) General Journal:

All other transactions that do not fit in any other book of prime entry are recorded in
general journal.

Ledger:

Ledger is where a transaction is finally debited and credited

There are three types of ledger
1) Sales ledger
All accounts are kept in the sales ledger
2) Purchase ledger
All accounts are kept in the Purchase ledger
3) General ledger
Rest of the accounts is in general ledger including control accounts for both sales and
purchase ledger.

Source documents:

Business transactions are recorded from source documents. Whenever a business

transaction takes place, involving sales or purchases , receiving or payment money it is
usual for the transaction to be recorded on a document. These documents are the
source of all the information recorded by a business. Documents used to record the
business transactions in the books of account of the business include the following

1) Invoice:

When a business sells goods or services on credit to a customer it sends out an invoice.
Invoice details the amount and type of goods supplied on credit.
- Sales invoice; for the supplier the invoice is sales invoice since he is selling
- purchase invoice; for customer it is a purchase invoice since he is purchasing

2) Debit note:

Document sent by a customer to a supplier in respect of goods returned or an over

payment made

3) Credit note:

A document sent by a supplier to a customer in respect of goods returned or over

payments made by the customer.

4) Receipt:

A written confirmation that money has been paid. This is normally in respect of cash
sales

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5) Statement of account:

A document sent out by a supplier to a customer listing all invoices, credit notes and
payments received from the customer

6) Cheque counterfoil:

It is a part of a cheque that has been retained as a record of the transaction.

Discount:
Reduction in payment is called discount
There are two types of discount
a) Trade discount
b) Cash discount

a) Trade discount:

Discount which business allowed on bulk purchases, on customer loyalty, bargaining or

on reference. This discount are never recorded in the books of accounts

B) Cash discount:

Discount which business allowed on prompt payment. There are two types of cash
discount
I) discount allowed; it is an expense for business
II) Discount received; it is an income for business

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Bank Reconciliation Statement

Bank Reconciliation Statement:

It is a document prepared by a business to explain why the updated bank
balance in the cash book does not agree with the balance on the bank statement.

Items Presented in Cash Book not in Bank Statement:

I) Unpresented cheque:

These are the cheque that have been paid by the business entered on the credit
side of the cash book, but which do not appear on the bank statement. This may
be because the suppliers have not paid the cheque into his bank or the cheque is
still in the banking system and has not yet been deducted from the business
account.

II) Uncleared Cheque:

An uncleared cheque is a cheque that has been written and recorded by the
business on the debit side of the cash book, but the cheque has not yet been
paid by the bank on which it is drawn.

Items Presented in Bank Statement not in Cash Book:

I) Credit Transfer:

They are money received from customers directly through the banking system. It will be
debited in cash book.

II) Standing Order:

Standing Order is an instruction to the bank to transfer funds of a specific

amount to another account on a specific date on a recurring basis. Therefore, the
balance as per bank statement may be lower than the balance as per cash book
due to payments made through standing orders not yet accounted for by the
entity.

III) Direct debit:

There are payments which have to be made, such as gas bills electricity bills,
telephone bills, Instead of asking the bank to pay the money, as with standing

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orders, you give permission to creditor to obtain the money directly from your
bank account.

IV) Dishonoured Cheque:

They are cheques deposited and debited in cash book but subsequently returned by the
bank due to nonsufficient amount or any other reason.

V) Dividend:

A dividend is a payment made by a corporation to its shareholders, usually as a

distribution of profits.

VI) Bank Charges:

of running the account.

VII) Interest Credited:

statement business make entry debit side of the cash book.

VIII) Interest Debited:

The bank charge interest from its customers on overdrafts and loans. On
receiving bank statement business make entry credit of the cash book.

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Quad-E-Azam
Bank recompilation statement
As at 31 July 2018
$ $

Balance as per up to date cash book xx

Add, Unpresented cheque
F Nelson xx
W Grean xx xx
Less, Uncleared cheque
W Hack xx
G Grill xx (xx)
Balance as per bank statement xx
Or
Balance as per bank statement xx
Add, Uncleared cheque
W Hack xx
G Grill xx (xx)
Less, Unpresented cheque
F Nelson xx
W Grean xx xx

Balance as per up to date cash book xx

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Control Account
Purpose:
If the trial balance fails to balance and the error cannot be readily located, it is
necessary to check all the accounting records. This can take a considerable amount of
time. The Checking process can be speeded up if a control account for the sales ledger
and control account for the purchase ledger have been prepared. These accounts act
as a check on the individual accounts with in these ledgers.

Sales ledger control account:

It is used to check the accuracy of the total for all the entries for the transaction posted
to trade receivable account in the same ledger.

Purchase ledger control account:

The Purchase ledger control account is used to check the accuracy of the total for all
the entries for transaction to trade payable accounts in the purchase ledger.

Advantages of control account:

1) It calculate total receivables and total payable to be recorded in financial
statements
2) It checks the arithmetical accuracy of books of prime entry and subsidiary
ledgers
3) it prevents from theft, errors and frauds.

Sources of information of sales ledger control account:

1. Sales journal
2. Sales return journal
3. Cash book
4. The journal

Sources of information of purchase ledger control account

1. Purchase journal
2. Purchase return journal
3. Cash book
4. The journal

Limitations of control account:

1. It only provides a summary of each transaction but do not provide the details of
each transaction
2. These accounts cannot detect all types of errors for example error of commission
and omission
3. As it is not a part of a double entry system it is difficult to locate each error.

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Correction of Errors

Errors which do not affect trial balance:

Errors which affect trial balance:

Some errors may occur that result in the totals of the trial balance not balancing.
If the errors are not found immediately, the trial balance is balanced by insulting
the difference between two sides in a suspense accounts. It is regarded as a
temporary account in which the difference on the trial balance is held until the
errors are discovered.

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ERRORS AFFECTING TRIAL BALANCE AGREEMENT

INCOMPLETE DOUBLE-ENTRY:

A transaction was not completed in the books of account, only a debit or credit entry was
made in one account by omitting either credit or debit side entry.

INCORRECT ADDITION:
A ledger accounts total was wrongly calculated so therefore balances were not equal.

INEQUAL AMOUNTS OF DEBIT AND CREDIT SIDE

A transaction was recorded and double entry was complete but one of the amounts on credit
or debit side was under/overstated. For example, sales account was credited by $1000 and
debtors account was debited by $ 900(under casted by $ 100).

Q. Explain the main reasons for preparing a trial balance.

The main reason for preparing the trial balance is

1. To check arithmetical accuracy

2. Completeness of double entry in recording all the transactions in the books of accounts
3. Acts as a basis from which to prepare final accounts

Q. Why Suspense Account is opened?

Suspense account is opened whenever there is a difference between the debit side or credit
side of the trial balance.

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Accounting concepts
Matching concept:

Profit is determined by matching revenue for the period against the expenses incurred
in earning that revenue. Revenue received and expenses paid that do not relate to the
period are excluded from financial statements.

Prudence concept:

Expenses should be recognized even if they are likely to be occurred and income when
right of a receivable becomes established.
For example provision for doubtful debts, no income would be recorded on the basis of
price bond or Lottery ticket.

Business entity concept:

Business is an entity separate from its owner; personal transactions of the owner are
not recorded in the books of accounts.

Consistency concept:

Once an accounting method has been chosen, that method should be used unless
there is a sound reason to do so.

Going concern concept:

The business will be able to continue its operations in the foreseeable future. Assets will
be recorded in the balance sheet at their cost value instead of market value.

Money Measurement:

The accounting process records only activities that can be expressed in monetary
terms.

Historical cost:

It is the measures of value used in the accounting in which the price of an asset in the
statement of financial position is based on its original cost.

Materiality:
Information is material if its omission or miss statement good influence the economic
decisions of users taken on the basis of the financial statements.

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Dual aspect:

For every debit, there is a Credit entry of an equal amount

Accounting Period Convention
Final accounts are prepared at the end of the accounting period i.e. one year.

Realization concept:
Revenue is recognized when goods are sold, either for cash or credit i.e. the debtor
accepts the goods or services and the responsibility to pay for them
Substance over form
Real substance take over legal form i.e. we consider the accounting point of you rather
than legal point of view in recording transaction.

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Capital & Revenue Expenditure

As important as many different aspects of accounting are, what is just as important is the
ability to differentiate between expenses and revenues. But does it end there? No. In
accounting, one has to learn to differentiate between the different types of expenses and
revenue as well.

Capital Expenditure: Meaning and Examples

Capital Expenditure is an expenditure that occurs solely for creating future benefits. Any
expense that leads to the purchase of a non-current asset, improvement in the life or quality of
an existing asset belongs to this category. It may also be an expense that increases the capacity
of an asset or makes it more productive. All such types of expenses are Capital Expenditure. It
also includes all expenses such as legal costs, transport costs and installation costs that incur
to bring a newly bought asset to its present location and condition for the first time.

Examples:
1): Buying a new car is a capital expenditure.
2): Painting a new house for the first time is capital expenditure.
3): Building an extension to a new house is capital expenditure.

Revenue Expenditure: Meaning and Examples

Revenue Expenditure is an expenditure that incurs solely for the day-to-day running of the
business. Examples include Stationary, Salaries, Rent and Lightning etc. all belong to the same
category. Buying a new asset might be Capital Expenditure but repairing an old asset is
Revenue Expenditure, as it is not increasing the original value of the asset, only restoring it.
This type of expense only gives short-term benefits, rather than long-term in case of Capital
Expenditure.
Examples:
1): Heating and Lightning.
2): Rent and Rates.
3): Sundry Expenses.

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Capital Receipts/Income: Meaning and Examples

Just like there are differences in expenditures, there are also differences in income. Capital
Receipts are receipts that arise from the sale/disposal of capital non-current assets like
machinery, vehicles or equipment, which seldom occur. Following are examples of Capital
Receipts:
1): Bonds and Cash.
2): Sale of shares in the business.
3): Sale of Non-Current Assets.
4): Insurance claim for a damaged fixed asset.

Revenue Receipts/Income: Meaning and Examples

Revenue Receipts are receipts earned from daily activities like sale of goods, are repetitive in
nature and are shown in the credit side of the Income Statement. These result from daily
activities and are used to pay business expenses. Examples of Revenue Receipts are:
1): Interest Received.
2): Rent Received.
3): Dividend Received.
4): Commission Received.

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Depreciation
It is a systematic allocation of depreciable amount over the useful life of an asset.
OR
Fall in the value of fixed asset during one year

Why fixed assets depreciate OR causes of depreciation

1) Wear and tear

2) Obsolescence
3) Environmental conditions

Why Depreciation has to be provided in financial statements

1) to record as an expense in income statement

2) to record net book value of the Asset in statement of financial position.

Methods of depreciation:

1) Straight line method:

In this method equal amount of depreciation is charged each year. Depreciation is

calculated by dividing the cost of fixed asset by number of years estimated. It can be
calculated as follows

Formula: Cost Scrap/Residual Value

Useful Life (In years)

Cost Scrap Value

2) Reducing balance method:

This method is applied on those assets which perform efficiently in initial years and less
efficiently in later heirs. Depreciation can be calculated as follows

[Cost Accumulated Depreciation] x Rate (%)

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3) Revaluation method:

This method is applied on low cost items like loose tools. It is difficult to ascertain the
value of each item so collectively they are valued it and amount used is depreciation. It
can be calculated as follows

$
Value at Start XXX
Add: Purchases X
Available for use XXX
Less: Value at end (XX)
Depreciation XX

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Double entry for depreciation

Ledgers:
Provision for Depreciation
$ $
Disposal XXX Balance b/d XXX
Balance c/d XXX Income Statement XX
XXX XXX
Balance b/d
Disposal of an asset:
Entries:

Disposal A/c

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Ledger:

$ $
XX XX
XX XX
XX XX
XX XX

Disposal
$ $
Non-Current Asset account XX Bank XX
Provision for Depreciation XX
Income Statement (Gain) XX Income Statement (Loss) XX
XX XX

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Irrecoverable debts
It is an amount owing to a business which will not be paid by the credit customer

Double Entry:

Irrecoverable debts

Ledgers:
Irrecoverable debts

2013 $ 2013 $
31 Dec Debtor xx 31 Dec Income statement xx

Debtor (Mr. A)

2013 $ 2013 $
1st Jan Bal b/d xx 31 Dec Irrecoverable debts xx

Provision for doubtful debts:

At the end of their financial year, many businesses try to anticipate the amount which
will be lost because of Irrecoverable debts. This ensures that the profit for the year is not
overstated and the amount of trade receivables in the statement of financial position is
shown at a realistic value.
This is an application of the principle of prudence. By maintaining a provision for
doubtful debts, a business also observed the principle of matching. The amount of sales
for which the business is unlikely to be paid is regarded as an expense of the year in
which those sales are made (rather than an expense of the year in which the debt is
actually written off)

Double entry:

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Ledger:
Provision for doubtful debts

2013 $ 2013 $
31 Dec Bal c/d xx 31st Dec income statement xx
2014
1st Jan bal b/d xx

Increase in provision for doubtful debts:

Double entry:

doubtful debts
Ledger:
Provision for doubtful debts

2013 $ 2013 $
1st Jan bal b/d xx
31 Dec Bal c/d xx 31st Dec income statement xx
2014
1st Jan bal b/d xx

Decrease in provision for doubtful debts:

Double entry:

doubtful debts

Ledger:

Provision for doubtful debts

2013 $ 2013 $
31st Dec income statement xx 1st Jan bal b/d xx
31 Dec Bal c/d xx
2014
1st Jan bal b/d xx

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Accounting Ratios
Profitability ratios

Gross profit
Gross profit margin (%) u 100
Revenue

Gross profit
Mark-up (%) u 100
Cost of sales

Profit for the year

u 100
Revenue
Profit margin (%) can also be expressed as
Profit for the year (after interest)
u 100
Revenue

Profit from operations

u 100
Return on capital employed (%) Capital employed
Capital employed = issued shares + reserves + non-current liabilities

Expenses
Expenses to revenue ratio (%) u 100
Revenue

Operating expenses to revenue Operating expenses

u 100
ratio (%) Revenue

Liquidity ratios
Current assets
Current ratio Current liabilities
Answer presented as a ratio

Current assets – inventory

Acid test ratio Current liabilities
Answer presented as a ratio

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Efficiency ratios
Net revenue
Non-current asset turnover (times)
Total net book value of non-current assets

Trade receivables
Trade receivables turnover (days) u 365 days
Credit sales

Trade payables
Trade payables turnover (days) u 365 days
Credit purchases

Average inventory
Inventory turnover (days) u 365 days
Cost of sales

Cost of sales
Rate of inventory turnover (times)
Average inventory

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RATIOS
It is necessary to analyse and interpret the financial statements of a business in order to assess
its performance and progress. Analysis consists of detailed examination of the information in a
set of financial statements of a business. The results of this analysis are then interpreted in
order to assess the performance of the business. Interpretation can include comparing the
results of other similar business and also comparing within the business. To enable this
comparison to be carried out in a meaningful way the results are usually expressed as
accounting ratios. Ratios are usually divided into two main groups profitability ratios and
liquidity ratios.
Working capital is the difference between the current assets and the current liabilities and is
the amount available for the day to day running of the business, it is also known as net current
asset. (Current assets current liabilities)
Capital employed is the total funds which are being used by a business. (All assets current
liabilities)
PROFITABLITY RATIOS:
Return on capital employed (ROCE):
Net profit before interest & Tax X 100
capital employed
This is very important ratio as it shows the profit earned for every $100 invested in the business
in order to earn that profit. The higher the return, the more efficiently the capital is being
employed within the business.
Gross profit as a percentage of sales:
Gross profit X 100
sales
This ratio shows the gross profit earned for every $100 for sales. Different types of industries
and trades tend to different gross profit percentages. The same business may have a similar
gross profit percentage from year to year. The higher the return, the more profitable is the
business. However, by reducing selling prices slightly, a business may achieve a higher
monetary gross profit.
The gross profit percentage can be improved by measures such as:
Increasing selling prices
Obtaining cheaper supplies
Increase advertising and sales promotion
Changing the proportions of different types of goods sold

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If the gross profit percentage changes significantly from one year to another year the cause
should be investigated. A fall in the gross profit percentage may be caused by:
Increasing the rate of trade discount
Selling goods at cheaper price
Not passing the increased cost incurred by the firm to customers
The cost of sales may have been increased by the theft of inventory
Seasonal sales.
Net profit as a percentage of sales
Net profit x 100
Sales
This ratio acts as an indicator of how well a business is able to control its expenses. If the net
profit percentage of a business increases it indicates that the operating expenses are being
controlled. This ratio will be influenced by the different types of expenses: some increases in
proportion to the sales e.g. commission paid on sales made, but the other expenses remain the
same whatever the sales be e.g. insurance of building. Any change in the gross profit
percentage will also affect the net profit percentage.
Liquidity Ratios
Current ratio: Current Assets
Current Liabilities
A current ratio is a measure of the liquidity of a business, determined by dividing current assets
by current liabilities. This ratio measures the ability of a business to meet its current liabilities.
Ratio 1.5:1 OR 2:1 is generally regarded as satisfactory, but it is important to consider the size
and type of business. This is also referred to as the working capital ratio & it compares assets
which are in the form of cash, or which can be turned into cash relatively easily within the next
12 months.
The working capital of a business must be adequate to finance the day to day trading activities.
A business which is short of working capital may encounter the following problems.
Cannot meet liabilities when they are due
Experiences difficulties in obtaining further supplies on credit
Cannot take advantage of cash discounts
Cannot take advantage of business opportunities when they arise

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Ways to improve the working capital position include:

Introduction of further capital by the owners
Obtaining non-current loans
Selling surplus non-current assets
Reducing drawings by the owner or reduction in dividends

Quick Ratio
Acid test ratio: Current Assets Excluding inventory
Current liabilities

It compares the assets which are in the form of money, or which will convert into money
quickly, with the liabilities which are due for repayment I the near future. This is a similar
calculation to the current ratio, but the quick ratio excludes inventory as this is not regarded as
a liquid asset. Inventory is two stages away from being money: the goods have to be sold and
then the money has to be collected from the debtors.
A ratio of 1:1 or 1.5:1 is regarded as satisfactory ratio which indicates that the immediate
liabilities can be met out of the liquid assets without having to sell inventory.
Rate of inventory turnover:
Cost of Sales
Average inventory
The rate of inventory is sometimes referred to as inventory turn. This ratio calculates the
number of times a business sells and replaces its inventory in a given period of time. The rate of
inventory turnover obviously vary according to the type of business. If the times of turnover
increases it may indicate improved efficiency & if the rate decreases it may indicates that the
business has too much inventory or that the sales are slowing down. The quicker the rate of
inventory turnover, the less time funds are tied up in inventory which is regarded as the least
liquid of the current asset.
A lower rate of inventory turnover can be caused by factors such as:
Lower sales (resulting in higher inventory levels)
Inventory over purchased
Too high selling prices
Falling demands
Business activity slowing down
Business inefficiency

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Accounts Receivables Collection period:

Accounts receivable x 365
credit sales
It measures the average time the accounts receivables take to pay their accounts. The quicker
the accounts receivables pay their accounts, the better it is. The money can be used for other
purposes within the business. The longer a business has to wait for a debt to be paid the
greater the risk of it becoming a bad debt. If the period (days) decreases it indicates that the
credit control policy is being more effectively applied. The collection period for trade
receivables can be improved by measures such as:
Improving credit control policy by sending regular statements of account & chasing
overdue accounts and so on.
Offering cash discount for early settlement
Charging interest on overdue accounts
Refusing further supplies until any outstanding debt is paid
Invoice discounting and debt factoring
Payment period for trade payables:
Trade payables x 365
credit purchases
It measures the average time taken to pay the creditors accounts. The answer to this
calculation should be compared with the term of credit allowed by accounts payables.
Taking longer to pay the accounts payables means that the business can use the funds for other
purposes but there can be adverse effects such as:
The supplier refusing credit in the future
The supplier refusing further supplies
The loss of any cash discount for early settlement
Damage to the relationship with the supplier
State possible ways to improve Return on Capital
o Controlling overheads by negotiating with suppliers
o Purchases can be made in bulk quantities to avail discounts
o Intensive advertising to increase lead to higher profits.

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State possible reasons for the apparent decrease in gross profit ratio.
o Decrease in selling price
o Increased prices of raw material
o Increased labour cost
o Increased in import duty / taxes on Raw material
o High sales volume of lower profit margin
o Lower sales volume of higher profit margin
State possible sources of finance
o Further investment by the owner
o Acquiring on hire purchase
o Borrowing from friends and relatives
o Loan from the bank
o Getting it leased
o Mortgage
State shortcomings or dangers in using ratio analysis.
o Interpretation by different people would be different
o Inflation rate might disturb the accuracy of ratios
o Ratio are based on past records only, which may not be true in future
o Ratio can only be used to compare like with like
o No fixed standards can be used for comparing ratios
o They are just indicators and should not be taken as final conclusion as other qualitative
factors should also be taken into account for overall analysis.
o Ratios does not allow for seasonal variations
Advantages of ratios
o Ratios are calculated to monitor the progress of the business
o To compare the performance with other competitors so that major steps can be taken
to improve the future operations
o To facilitate the decision making process and to point out problematic areas
o It helps managers to set targets.

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State four users groups who might be interested in or make use of accounting ratios
o Potential investors
o Managers
o Lenders
o Government
o Employees
o Tax authorities
Importance of capital employed in assessing the performance of the business.
o Allows investors to make decision between alternatives
o Allows comparison with similar business
o Allows comparison with less risky investment eg. Bank
State possible reasons for the decrease in the ratio of net profit to sales. (NET PROFIT
MARGIN)
o Reduction in prices due to competition.
o Increase in purchase price.
o Decrease in selling price which do not correspond to increase in sales volume.
o More administrative and marketing expense.
o Overstatement of opening inventory.
o Understatement of closing inventory.
State what information the users would obtain from the ratios
Lenders:
Interested In purpose for which loan needed, security of loan, profit trends (interest), order of
claim in the event of liquidation.
Government bodies:
Interested in wage (income tax), profit corporation tax, vat returns, forecasts of future
expansion.
Employees and trade unions:
Interested in profits earned this year, potential and past profits, future prospects, dividends.
Explain what does non-current asset measures.
o It shows efficiency of assets to generate income
o It shows how much every dollar of non-current asset generates sales revenue. A higher
value indicates better utilization of resources.

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Partnership

Partnership refers to a type of business where two or more individuals, or even separate
businesses agree to work together under a single business in order to achieve profits.
Normally, a maximum limit of 20 partners is permissible but in the case of banks, one can
admit only 10.
Whenever these partnerships are made, stress is put on drafting a Partnership Agreement in
order to avoid possible future disputes, which clearly states the terms of the partnership such
as:
Names of the partners.
Profit and Loss sharing ratio.
Amount of capital contributed by each partner.
Rate of interest on capital and drawings.
Salaries of partners and the maximum limit for drawings.

Partnership: Capital & Current Account

In the case of Sole Traders, as far as capital was concerned, there was only one account known
as Capital account. However, in a partnership, two such accounts are kept, one is the Capital
account itself and a new account referred to as Current Account.

Capital Account: This account is the same as the ones in Sole Trader businesses with an
increase in capital of the business on the credit side and a decrease or withdrawal of capital on
the debit side.

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Current Account: This account is specifically kept to record the expenses of each partner as
well as income. Income appears on the credit side while expenses appear on the debit side.
Debit balance of the current account is a negative balance which is to be subtracted in
Statement of Financial Position while a credit balance is a positive balance and is added. The
format for the Current Account is as follows:

Current Account
Wajahat Fahd Wajahat Fahd
Opening Balance XX XX Opening Balance XX XX
Drawings XX XX Interest on Capital (1) XX XX
Interest on Drawings (5) X X Interest on Loan (2) X X
Loss Share XX XX Salaries (3) X X
Commission (4) XX XX
Profit Share XXX XXX
Balance c/d XX XX Balance c/d XX XX
XXX XXX XXX XXX
Balance b/d XX XX Balance b/d XX XX

1. Interest on Capital: As it is set as a percentage of the amount of capital invested by each

partner, it is an income for the partner and it serves as an incentive for partners to invest
more so they can receive more interest. It is not shown under Other Income in the Income
Statement and only appears in the Current Account.

2. Interest on Loan: This refers to the interest the business pays on the loan that is provided
by the partner. Although an expense of the business and appearing in the Expenses section
of the Income Statement, it is an income for the partners and thus, appears on credit side. A
5% Interest on Loan is charged if no percentage is set in the agreement.

3. Salaries: Some partners usually work in their businesses and not just invest. Therefore,
they are sometimes entitled to a certain salary for their services, in addition to receiving
the profits of the partnership.

4. Commission: This is a bonus provided to partners usually when they bring in more clients
than the others or for showing great progress in the partnership.

5. Interest on Drawings: It is set as a percentage of the Drawings of each partner, it is an

additional expense for each partner and is charged in order to discourage partners from
drawing excessively from the partnership.

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PARTNERSHIP
Identify 2 methods of raising extra finance and state one advantage and one disadvantage of
of each method.
Loan from the bank:
Advantage: availability of longer period to repay such loans
Disadvantage: interest needs to be repaid along with the re payments
Admit new partner with new investment.
Advantage: permanent capital would be raised with no repayment required.
Disadvantage: Profits would be divided
Explain why partnerships may keep both capital Accounts and current Accounts.
Capital Accounts:
Similar to a sole trader each member of the partnership business has their own capital
Accounts in the nominal ledger. These usually record permanent increase or decrease in the
capital invested by the individual partner. Capital accounts prepared in thes way are referred to
as a fixed capital accounts.
Capital accounts are maintained separately so that partners can exactly know their investment
in the business to help decide on long term issues.
Current Account:
Each member of a partnership business also has a current Account. Anything which the partner

this account. Anything which the partner is charged with such as drawing and interest on
drawings is debited to this account.
Current account are maintained to show routine ad day to day adjustments about interest on
capital, salary, commission etc. current account balances roughly specify a limit. To which
drawing s may be made, if drawings exceed the limit, the balance becomes debit and act as a
precaution.
Advantages and disadvantages of partnership:
Advantage:
o Additional finance is available
o Additional knowledge, experience and skills are available
o Responsibilities are shared among the partners
o Risks and losses are shared among the partners

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o Discussions can take place before decisions are taken

o Holiday or sickness is covered by a partner.
Disadvantage:
o Profits are to be shared among the partners
o Decisions have to be recognized by all partners
o Decisions may take longer to put into effect
o One partner actions on behalf of the business are binding on all the partners
o Disagreements can occur
o All partners are responsible for the debts of the business.
State three financial rules which apply to a partnership if no partnership agreement has been
drawn up.
o Equal share of profits or losses
o No interest on capital
o No interest on drawings
o
State four advantages a partnership has compared with a limited company.
In company there is a limited liability which means shareholder, personal property is never at
stake unlike partnership.
Companies have perpetual existence as they are registered as a legal person unlike partnership.
In a partnership limited funds are available while a company is in a better position to raise more
finance.
In partnership partners can never sell their share of investment without the consent of other
partners but that is not the case in a company.
Explain the meaning of goodwill & how it may arise?
Goodwill is an intangible asset that arises when a buyer acquires and existing business.
Goodwill is a favorable image of the business which it acquire over a period of time due to its
good reputation and its products. Goodwill reflects the ability of a business to earn more than a
normal rate of return on its physical net assets.
Goodwill may arise due to following reasons:
o Business reputation
o Location of a business
o Staff quality
o Brand loyalty of customers

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Company Accounts
Are partnerships and sole traders the only type of business organizations we see in our daily
life? Some of you might think so. But we are missing another type of business organization
that is in place amidst us. Such a business organization is called Limited Companies or
Limited Liability Companies.

Limited Companies: Purpose and Types

These organizations are called so because the liability of the owners of such organizations is
limited to the extent of their investment. Unlike a sole trader or partnership, the owners and
the business are a separate identity in the eyes of the law and thus, the owners cannot be sued
for the actions of the company. Such organizations are owned by shareholders who buy shares
of the company as proof of ownership. There are two types of such companies:
1. Private Limited Company: This type of limited company issues its shares privately to
friends, family members and employees only.

2. Public Limited Company: This type of limited company is permitted to issue shares
publicly to anyone who can buy them and thus, does not have a maximum number of
shareholders.
One very important thing to understand when studying the working of limited companies is
that in such business organizations, the owners do not run the day to day operations of the
business. They appoint Directors which manage the company for them and make all
decisions. This is also sometimes referred to as the Diversity of Ownership from Control.

Dividends: Purpose & Types

These are payments made to owners of a company as a reward for investing in the company.
These are made from the profits of the company after all expenses have been deducted from
revenue. It has the following types:
1. Interim Dividend: These are issued during the financial period.

2. Final Dividend: These are issued at the end of the financial period.

3. Proposed Dividend: These are announced by directors but not yet issued. They are
considered as a liability.

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Shares: Purpose & Types

As stated before, shares are ownership certificates awarded to shareholders as proof that they
own a part of the company. However, there are two types of shares that a shareholder might
buy:
1. Preference Shares: Such shares are entitled to a fixed rate of dividend which is always
given to its shareholders before ordinary shareholders receive anything. Although this
gives them an advantage of having the first hand over profits and their dividends not
varying from year to year, it does take away their right to vote at AGM Annual General
Meeting where shareholders meet every year in order to choose the directors of the
company.
These shares have two further categories:

Cumulative Preference Shares: In the case where the company does not make enough
profit to pay the full dividend on these shares, the amount of dividend unpaid will be
carried forward to the next year and will be due on the company to be paid to its
shareholder in the following year.
Non- Cumulative Preference Shares: In the case where the company does not make
enough profit to pay the full dividend on these shares, the amount of dividend unpaid
will not be carried forward to the next year and the company will not be required to pay
them in the following year.

2. Ordinary Shares: Such shares are entitled to dividends after the preference
shareholders have received this. The amount is not fixed and varies from year to year

Types of Capital:
When considering the financial statements of a limited company, there are various types of
capital shown in it from the three above sources:
1. Authorized Share Capital: This is the total of the share capital that the company is
allowed to issue to its shareholders. This type is no longer require to be shown in the
Statement of Financial Position.

2. Issued Share Capital: This is the total of the share capital that the company has already
issued to its shareholders.

3. Called up Capital: This is part of issued capital which the company has asked
shareholders to deposit to the company. When issuing shares, full payment is not always
asked for and usually come in installments.

4. Paid up Capital: This is part of Called up Capital that the shareholders have paid.

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Sources of Capital: Types & Differences

Unlike other business organizations, Limited Companies rely on three key sources which
serve as and form capital of the business. These sources are:
1. Ordinary Shares
2. Preference Shares
3. Debentures

Differences
Ordinary Shares Preference Shares Debentures
Owned by shareholders. Owned by shareholders. Long-term Loan to a
company. Also known as

Are paid dividends. Are paid dividends. Are paid Interest.

Owners of the company. Creditor of the company. Creditor of the company.
Can vote at AGM. Cannot vote at AGM. Cannot vote at AGM.
No fixed rate of dividend. Fixed rate of dividend. Fixed rate of interest.
Cannot accumulate Can/Cannot accumulate Cannot accumulate interest;
dividends. dividends depending on has to be paid.
type.
Last one to get paid back on Get paid back after First one to get paid upon
liquidation. debentures on liquidation. liquidation.
Paid dividends after Paid dividend from profits First to receive interest as it
preference shareholders. after deducting interest. is treated as an expense.

Reserves: Purpose & Types

This refers to profits that are not apportioned as dividends to shareholders and instead, are
kept in the business. This is done in order to fulfill any of the following objectives:
To increase working capital.
To pay future dividends.
To fund business expansion and growth of operations.
To keep for times when the business might suffer a loss.
There are two types of Reserves:
1. Revenue Reserves: These occur as a result of undistributed profit being kept in the
e as
profits to shareholders.

2. Capital Shares: These occur not as a result of undistributed profit, but occur on the
revaluation of capital assets and sum received from the issuance of share (also known as
Share Premium). These are also known as Un-Distributable Reserves.

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Statement of Changes in Equity:

Just like there is an appropriation account when making financial statements of Partnership
businesses, we need to create a Statement Of Changes In Equity when making Financial
Statements of Limited Companies. Its purpose is to show the appropriation of Company
Profits between shareholders and reserves of the company. It is as follows:

Share Revaluation General

Reserve Reserve

Bonus Shares

Bonus shares are additional shares that a company issues to its existing shareholders without any
additional cost, based on the number of shares they already own. The issuance of bonus shares is
usually in proportion to their existing holdings, such as one bonus share for every five shares owned.

Right Shares:

A rights issue where a company offers existing shareholders the opportunity to purchase additional
shares at a discounted price, usually for a limited period of time. These rights are typically issued in
proportion to the number of shares a shareholder already owns, giving them the right, but not the
obligation, to maintain their proportional ownership in the company.

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Sole Trader

Format for Income Statement:

Gravity Institute
Income Statement
For the year ended, 31 Dec ________.
$ $ $
Revenue (Sales) XXX
Less: Return Inwards (XX) XXX
Less: Cost of Sales
Opening Inventory XX
Add: Purchases XX
Less: Return Outwards (X)
Add: Carriage Inwards XX
XXX
Less: Closing Inventory (XX) (XXX)
Gross Profit XXX
Add: Other Income
Discount Received XX
Gain on disposal XX
Decrease in Provision for Doubtful Debts XX XX
XXX
Less: Expenses
Carriage Outward
Provision for Depreciation XX
Bad Debts XX
Bank Interest XX
Increase in Provision for Doubtful Debts X
Loss on Disposal X (XX)
Net Profit/Loss XXX

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Format for Statement of Financial Position:

Gravity Institute
Statement of Financial Position
As at 31 Dec ________.
$ $ $
Cost Depreciation Book Value

Non-Current Assets:
Building XXX (XX) XXX

Equipment XXX (XX) XXX

XXX
Current Assets:
Inventory XXX
Trade Receivable XX
Less: Provision for Doubtful Debts (X) XX
Other receivable XX
Cash XX
Bank XX XXX
XXX
Capital & Liabilities:
Capital at start XX
Add: Net Profit XX
XX
Less: Drawings (XX)
Capital at end XX
Non current Liability
Bank Loan XX
Current Liability
Trade Payables XX
Bank overdraft XX
Others payable XX XX
XX

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COSTING

WHAT IS MEANT BY BREAK EVEN CHART?

It is a line graph used in break-even analysis to estimate when the total sales revenue will
equal total costs the point where loss will end and profit will begin to accumulate.

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DEFINE THE BREAK-EVEN POINT

Break-even point shows the level of output / number of units at which revenue equals total
cost with no profit and no loss.
STATE THREE ASSUMPTIONS THE ACCOUNTANT MUST MAKE WHEN PREPARING A BREAK
EVEN CHART.
o It assumes that the selling price is constant at all levels of output
o All variable costs per unit remains constant
o Fixed cost do not change within the relevant range
o Break even chart applies to the relevant range only
o It assumes that all units produced are sold
o Break even chart covers only short term planning

Margin of safety is the difference in units (value) between the budgeted actuals sales and the
break even sales and it sometimes expressed as a % of the budgeted actual sales revenue. The
margin of safety is a measure of risk and represents the amount of drop in sales which a
company can tolerate. Higher the margin of safety, the more the company can withstand
fluctuations in sales. A drop in sales greater than margin of safety will cause net loss for the
period
DEFINE THE TERM FIXED COST.
A fixed cost is a cost that does not vary in the short term, irrespective of changes in
production or sales levels, or other measures of activity. A fixed cost is a basic operating
expense of a business that cannot be avoided . Examples are as follows:
o RENT
o INSURANCE
o INTEREST ON LOAN
DEFINE THE TERM STEPPED FIXED COST.
Stepped cost is a cost which does not increase gradually rather it rises only if activity crosses a
certain limit. For example when production increases, supervision cost increases after every
certain level and then remains constant.

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MARGINAL COSTING
Marginal costing is the accounting system in which variable costs are charged to cost units and
fixed costs of the period are written off in full against the total contribution. It consist of prime
cost i.e. cost of direct material, direct labor, direct variable overhead. It does not contain any
element of fixed cost which is kept separate under marginal costing technique.
FORMAT FOR MARGINAL COSTING:

EVALUATE THE LIMITATIONS OF MARGINAL COSTING

Marginal costing should only be used for short term decision making. However, it is necessary
to split all costs into fixed and variable which may be difficult to use if more than one product is
sold as it is difficult to split fixed overheads over several products.
STATE SITUATIONS WHERE MARGINAL COSTING WOULD HELP IN MAKING A SHORT TERM
DECISION STATE REASONS WHY A BUSINESS MIGHT USE A MARGINAL COSTING.
o Make or buy decisions on allocation of scarce resources or limited resources
o Product mix in limiting factor decisions
o Acceptance of special orders
o Whether to discontinue a product or not from existing range
o Prices can be determined on the basis of marginal cost
o It helps in deciding the new selling price when entering a new market

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State advantages and disadvantages of marginal costing.

Advantages:
o Marginal costing is good for short term decision making because it only considers
variable cost.
o Marginal costing helps in decision making for special orders
o It helps in setting out selling price
o It helps in decision making to make or buy products
o It enables comparison
Disadvantages
o It is inaccurate because it is difficult to split orders into fixed and variable costs.
o It is time consuming
o It is not useful for financial statement because the inventory in dollars would be
understated as it records inventory only on variable cost per unit.
o Marginal costing does not include an element of fixed costs in in inventory valuation
o It does not show any over or under absorption of overheads which Is a useful exercise in
controlling costs of an organization.
EXPLAIN THE IMPLICATIONS FOR THE LOCAL COMMUNITY IF BUSINESS DECIDES TO EXTEND
ITS PRODUCT RANGE.
Extension of product range would not only increase employment opportunities for the local
community but would also open up new avenues for local suppliers and diverse product range
for customers. However there may be increased pollution due to greater economic activity
which could harm the interest of local community.
IDENTIFY THREE FACTORS WHICH COMPANY SHOULD CONSIDER WHEN DECIDING WHETHER
TO ACCEPT SPECIAL PRICE ORDER OR NOT?
Customers paying full price will be annoyed to discover others paying less. Competition may
arise in a market due to change in a price and this shall start a price wars in a market. Company
should not rely on special orders as it is not long term solution and company should go for full
pricing orders.

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ABSORTION COSTING
Absorption costing means that all of the manufacturing costs are absorbed by the units
produced. In other words, the cost of a finished unit in inventory will include direct materials,
direct labour, and both variable plus fixed manufacturing overhead. As a result, absorption
costing is also referred to as a full costing or the full absorption method.

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EXPLAIN WHY THE ABSORPTION COSTING STATEMENT PRODUCES A DIFFERENT PROFIT

FIGURE TO THE MARGINAL COSTING STATEMENT.
Absorption costing will produce a different profit figure to the marginal costing whenever
opening and closing inventory differs. Absorption costing values inventory at total production
cost including a portion of fixed cost.
Marginal costing values inventory at variable cost only, treating fixed cost as period cost. When
closing inventory is higher than opening inventory, absorption costing will produce the higher
profit and when the closing inventory is lower than opening inventory marginal costing will
produce the higher profit.
Explain what is meant by the under absorption and over absorption of overheads.
Over-absorption overheads
This means that the amount of overheads added to production costs exceeds the total amount
of overheads, because actual production was higher than anticipated when the OAR was
calculated
Under absorption overheads
This means that the amount of overheads added to production costs is less than the total
amount of overheads, because actual production was lower than anticipated when the OAR
was calculated.
EXPLAIN HOW OVER ABSORPTION & UNDER ABSORPTION OF OVERHEADS CAN AFFECT THE
PROFIT OF A MANUFACTURING BUSINESS.
Over absorption of overheads will mean that too much overhead is charged to the product. This
means that a higher price is charged to a customer leading to increased profits.
Under absorption of overheads could lead to insufficient overhead being charged to a product.
This means a lower price is charged to the customer which fails to cover cost and reduces
profit.
WHY COMPANY ABSORBS ITS OVERHEADS USING DIRECT LABOUR HOURS?
o Overheads tends to be related to time.
o Using a departmental labour rate is appropriate if different grades of labour are used in
each department.
o The company may be labour intensive.

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STATE METHODS THAT BUSINESS COULD USE TO ABSORB THEIR OVERHEADS.

Single factory rate
Machine hour rate
Unit cost
% direct labour cost
% direct material cost
Activity based costing

EXPLAIN THE PROBLEMS ACCOCIATED WITH USING PRE-DETERMINED OVERHEADS

ABSORPTION RATE IN CALCULATING THE PRICE OF A PRODUCT.
Predetermined overheads are calculated on estimated data which could be inaccurate, leading
to over/under absorption. Over absorption of overheads leads to fall in demand and
subsequent loss of revenue i.e reduced profits. Under absorption of overheads means
insufficient overhead charged to production, lower price will be charged to customer an whole
cost will not be covered thereof profits will be reduced.

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State financial benefits of a system of budgetary control.

o Facilitates profit maximization
o Enhanced cash management by identifying future inflows and outflows
o Facilitates working capital requirement planning.
o Enables capital expenditure planning.
Advantages and disadvantages of a system budget preparation.

ADVANTAGES DISADVANTGES
o Facilitates long term planning. o Can discourage innovation
o Promotes co-ordination between o May de-motivate staff if set too
departments. challenging
o Enables monitoring and control o May prevent progress if set too
o Can act as motivation for employees undemanding.
o Helps the allocation and use of o Can be a time consuming and costly
resources. operation.
o May provide a framework for o May require specialist staff.
delegation/ responsibility accounting o May cause conflict between
o Aids decision making. departments regarding the allocation
of resources.

Purposes of budgets:
Budget is a plan expressed in quantitative terms (money or units etc.) for a forthcoming
accounting period. Its main purposes are:
o To co-ordinate the activities of different departments towards a single plan so that each
is part of an integral activity.
o To communicate targets to the managers responsible for achieving them
o To establish a system of control by providing clearly defined targets of output, incomes
and expenses for each department or section of the organization.
o To help the management in planning the future policy and annual operations
o To motivate managers in striving to achieve the organizational goals
o To evaluate the performance of managers by comparing the actual results with
budgeted targets.

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COMPUTERISED ACCOUNTING SYSTEM

Computerized Accounting involves making use of computers and accounting software to
record, store and analyze financial data as it has more advantages than disadvantages when
compared with manual accounting system.

ADVANTAGES OF COMPUTERISED ACCOUNTING SYSTEM

ƒ Using accounting software it becomes much easier for different individuals to access accounting
data outside of the office, securely.
ƒ Using accounting software, the entire process of preparing accounts becomes faster.
ƒ Because the calculations are so accurate, the financial statements prepared by computers are
highly reliable.
ƒ computerized accounting is more efficient than paper-based accounting, than naturally, work
will be done faster and time will be saved.
ƒ Computerized systems can produce invoices, purchase orders and other documents more
quickly than manual accounting system.
ƒ Many reports are automatically updated and instantly available.

DISADVANTAGES OF COMPUTERISED ACCOUNTING SYSTEM

ƒ It can be costly to staff accountants familiar with specific computerized accounting software
and programming.
ƒ Computerized systems are costly to purchase
ƒ Accounting software data requires extra levels of security to prevent problem like fraud
ƒ If your computer crashes or data is corrupted by a virus, you won't be able to use your
accounting software until the problem is fixed
ƒ Accounting software requires you to take the time to learn how to use it
ƒ It is even easier to mistype a number in computerized accounting system.

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